You have an exciting new business and you can’t wait to establish it.
If you’re not planning on running your business from home, you will need a business property, which means you’ll probably need a mortgage, but this can be fraught with many issues.
Can a self-entrepreneur own a mortgage?
Here’s where things can become tricky. There are some hoops you’ll have to be prepared to jump through if you’re self-employed or own an LLC.
But don’t worry – you can still get a mortgage for your new business. You just have to know how to go about it. Here’s your ultimate guide.
- 1 Residential Mortgages Vs. Commercial Mortgages
- 2 Are Rates For Residential Mortgages Lower Than Commercial Mortgages?
- 3 Mortgages: What Are The Pros And Cons?
- 4 What To Know Before Applying For A Commercial Mortgage
- 5 What If You Don’t Have Good Credit Or A Financial Track Record?
- 6 What To Know About Commercial Mortgage Rates
- 7 Lower Your Commercial Mortgage Payments With These Tips
- 8 Should You Get A Business Loan Instead?
- 9 Tips For Applying For A Commercial Mortgage
- 10 Where To Get A Commercial Mortgage?
- 11 The Hidden Costs Of Commercial Mortgages
- 12 Related Questions
- 13 Conclusion
Residential Mortgages Vs. Commercial Mortgages
Both individuals and businesses will make use of mortgages in order to make real estate purchases easier than paying the purchase price up front.
The mortgage will be paid over many years, and this includes with interest, until the borrower owns the property.
As you probably already know, there are two main types of residential mortgages. These are:
You can choose to have a 15-year fixed mortgage or a 30-year fixed mortgage, but some mortgages can last just a few years.
Of course, if you extend the mortgage duration you’ll have less to pay on the mortgage every month but the drawback is that you’ll need to pay more interest.
With this type of mortgage, you’ll have a fixed interest rate for a certain amount of time after which it will change according to how the market interest rate changes.
What’s appealing about this type of mortgage is that the interest rate you have to pay at first is usually below the rate of the market, so the mortgage will be a bit easier to manage.
But, if the interest rates increase at a later stage, you might find that you can’t afford the higher amount you have to pay every month.
How Commercial Mortgages Differ
As a business owner, you’ll probably be interested in purchasing a commercial mortgage, whether for offices or a warehouse.
A commercial mortgage works in a similar way to a personal mortgage because it’s a secured loan that provides you with the financing you need to buy property or land for your business.
You’ll have to put a deposit of approximately 25 percent of the building’s value. The average interest rate you’re looking at will be around four or five percent.
You can get a commercial mortgage in the same way you would a home mortgage – from independent lenders and banks.
However, you have a few more options available to you with commercial mortgages as you can get them from private investors, insurance companies, and more.
There are some differences between commercial mortgages and residential mortgages. The loan terms of commercial mortgages can range from five years all the way to 20 years.
The amortization period is usually longer than the loan’s term. FYI, amortization is the process of spreading out the loan into payments made up of the principal loan and interest over a set period of time.
So, this means that the lender can set a commercial loan for a seven-year term and have a period in which to pay off the loan that’s 30 years.
This loan agreement specifies that the investor makes payments for the period of seven years, based on the amount that’s paid off for 30 years, then there’s a final balloon payment of the remaining amount, as Investopedia reports.
Another difference between residential and commercial mortgages is that they have different Loan-To-Value (LTV) ratios.
This ratio measures the loan’s value against the property value.
Both residential and commercial mortgage borrowers with lower LTVs will get better financing rates as compared to people who have higher LTVs.
But how they differ is that residential mortgages can get up to 100 percent LTV ratios while commercial loans will only be able to get high LTV ratios that are between 65 percent and 85 percent.
Are Rates For Residential Mortgages Lower Than Commercial Mortgages?
Yes! There are two reasons for this:
- When it comes to residential mortgages, they often are seen as being less risky than commercial mortgages. This is because it’s considered that a residential mortgage is something many people would make a priority when paying their expenses for the month because they want to live in their homes. Commercial mortgages can be seen as lower on one’s priorities list, so they’re seen as a higher risk.
- Residential property is more liquid than commercial property. If there’s a repossession, the lender could end up with a problem on his or her hands because it will be more difficult to sell commercial property.
Mortgages: What Are The Pros And Cons?
Before you apply for a mortgage, bear in mind the following pros and cons.
- You’ll be investing in a business asset. Not only will this property or building be yours once you pay off the mortgage, but it could increase in value. This can make it a valuable long-term investment to own. In fact, U.S. commercial real estate value has been increasing over the last few years.
- You can get a tax break for your mortgage because the interest you pay on it is tax-deductible.
- You’ll be able to own your business premises which will give you greater stability as compared to renting premises. You won’t have to be affected by increasing rental charges that can feel like a waste of money over time.
- You have to pay upfront costs that can be expensive. This doesn’t just refer to the deposit you have to pay, but other mortgage expenses such as arrangement fees, but more on those later in this article.
- You’ll need to have your paperwork in order. When applying for a commercial mortgage, you’ll need to show three to five years of books in order to show you can repay the mortgage. This can be a major drawback for new businesses that might not have financial track records.
What To Know Before Applying For A Commercial Mortgage
If you own a startup company and you want to secure a mortgage, you can usually work around the obstacles that present themselves.
Here’s how to tell if you would qualify for a mortgage to fund your business.
- You know how profitable your business will be. Having this future projection can show lenders that your loan is affordable for you. Since the early days of your company can be difficult – consider that many startups battle to secure enough cash – lenders will want you to be sure you can afford the extra stress on your business that comes in the form of a mortgage.
- While you need to take your credit history into account, there are some greater concerns you need to deal with, such as previous mortgage arrears and financing problems that can prevent you from getting a loan.
- You need to consider the type of industry you’re in. This is because you might find that you can only borrow at a certain level depending on your industry.
What If You Don’t Have Good Credit Or A Financial Track Record?
In this case, the lender could set the requirement that owners of the entity need to guarantee the loan.
This is what will enable the lender to gain credit history in the process of gaining security.
If the lender doesn’t require this guarantee and the property is the only asset that can be used if the loan is defaulted, the debt will be called a non-recourse loan.
What To Know About Commercial Mortgage Rates
Commercial mortgages have rates that are usually based on the applicant’s circumstances, such as the type of the property that’s offered as security.
You will be able to decrease your rates by offering a good deposit. This shows the lender that you’re already offering security on the mortgage.
That said, there are many things that can affect the type of deal you get on your commercial mortgage. These include the following:
- Your previous finance arrangements.
- The quality of your application – showing proof that you’ll be able to pay back the mortgage can help you.
Currently, the average interest rate you’ll have on a commercial loan is between three and 12 percent, but the amount of interest you can secure depends on various factors, such as the type of building for which you need funds and your qualifications as a borrower, as ValuePenguin reports.
Lower Your Commercial Mortgage Payments With These Tips
Choose An Interest-Only Mortgage
This mortgage specifies that you only pay on the interest of the commercial loan for between one to two years.
It can help you if you don’t have much money but foresee that your business will become profitable quickly.
The risk is that if you don’t earn the money you predicted you would, you could end up with a problem when principal payments are included in the loan’s terms.
Opt For Rate Buydowns
Paying a portion of the loan upfront is known as a Rate Buydown.
Obviously, if you put a larger amount on the table from the start this will decrease your interest rate, but Rate Buydowns might not be suitable for you.
For example, if you don’t want to take a lot of money from your savings, you might hesitate when it comes to choosing the Rate Buydown option.
Consider A Shorter Loan
Instead of being locked into repaying the mortgage for many years, see if you can’t reduce the number of years.
You’ll have lower monthly payments if you, say, opt for a five-year loan instead of one that’s up to seven years long.
You’ll also reduce your interest rate. With longer-term loans, you’ll have higher interest to pay and having to make more payments results in you paying more interest generally.
Should You Get A Business Loan Instead?
If you don’t qualify for a commercial loan, you’ll need to look for other ways in which to get financing.
Here are some options you could consider:
Secured Business Loans
These types of loans are for business owners who have assets such as vehicles or commercial property.
The amount of money you’ll be able to borrow with a secured business loan will be based on the value of the assets you currently own.
That’s why it’s called a secured business loan – you secure it with assets so that if you can’t repay the loan those assets will be taken instead.
These types of loans can be less expensive than other types of loans, such as unsecured loans, because the lender takes less of a risk when providing them.
In addition, while things like credit rating will obviously still be taken into account by lenders, the assets you own will be the main focus of this loan.
Property Development Finance
This is short-term financing that can be sourced from P2P lenders or brokers who have access to special lending facilities.
It can help you jumpstart your development project because the money can be granted in a faster way than what you’d find with a traditional commercial mortgage.
Therefore, if you’re considering buying a property via an auction, this kind of financing can help you take advantage of the opportunity.
Tips For Applying For A Commercial Mortgage
You’ll Need The Correct Documents
As with any loan application, you’ll need to ensure that you provide the correct documents. For commercial mortgages, you’ll need the following:
- Detailed projections – these will be used by lenders to gauge how affordable the loan will be for you.
- Business plan – the lender wants to know your projections but also how they’ll be achieved, so your business plan should detail what you’re going to do and how you intend to achieve your goals.
- Bank statements – you’ll need to provide bank statements, which usually take the form of three to six months’ worth of personal bank statements. The amount of months will vary according to the specific lender’s requirements.
- Tax returns – you’ll usually have to provide up to five years of your accounts.
- Current and projected business performance figures, including your projected cash flow.
- Profiles of your company’s partners and directors, as well as their details and credit reports.
- Your state certification as an LLC or corporation.
- Appraisal of the property that should be done by a third party.
What Is Your Ownership Percentage?
One of the first things you need to consider when applying for a business mortgage is how much of the business you own as this will affect the process.
If you own 25 percent or more of the corporation’s voting stock, you’ll be classified as self-employed.
This means you’ll need to provide a corporate tax return when applying for a mortgage. This tax return can affect your application, whether it displays a loss or profit.
Here’s what to know about that.
- If your company has earned profits, you’ll be eligible to report some (or all) of it on your income – but again, it depends on how much of the company you own. So, if you have 25 percent of the corporation in your possession and the company earned $15,000 profit in a year, a mortgage broker could add 25 percent of the earnings, which is $3750, to your income.
- Now, what happens if your business suffers a loss? You’ll also have to reflect that loss in your income and once again it will depend on how much of the company you own. So, if you own all the voting stock and the company lost $13,000, then you’ll have that amount taken away from the amount of your income.
Note: If you’ve suffered a business loss, understand that this could negatively impact your chances of getting a mortgage for your business. You might have to wait a bit for your financial situation to get better and then try reapplying for the mortgage.
What Is Your Startup Runway?
Your company’s startup runway is determined as the period of time your company would have to survive if your expenses and income stayed the same.
A healthy startup runway would be up to 18 months.
While it can be tempting to want to extend your runway for as long as possible to ensure you don’t run out of money, this is problematic because you need to be investing in your business during this time so that it can take off.
By purchasing a commercial mortgage, you’ll be investing in your business and ensuring it can grow.
A commercial mortgage ensures that your business can be more stable because you won’t have drastic fluctuations of rental payments to deal with.
Since these types of loans tend to provide you with lower monthly interest than other loans, you can save more money for your business and put it to good use so your business can make more profits.
These are some reasons why commercial mortgages can be useful to invest in during your startup runway so you don’t end up missing opportunities to make your business better.
You can also refinance the business property if you need more money to grow your business in future.
Where To Get A Commercial Mortgage?
The first thing to figure out is if you’ll want to use a bank or lender.
Which one is better?
Here are the pros and cons of each.
- You can get good rates from your bank, with banks usually offering you loans that can go up to $1 million, and national banks can provide even higher mortgages.
- Getting a loan from a bank can be a long process.
- You need to have a good credit score and credit history.
- You’ll be able to get faster approval as compared to getting a loan from a bank.
- The fees and closing costs tend to be lower than they are with banks.
- The interest rates offered by lenders are usually higher than those offered by banks.
- Many types of commercial mortgages offered by lenders are short-term loans.
The Hidden Costs Of Commercial Mortgages
While you might not consider the hidden fees you have to deal with when taking out a commercial mortgage, these are important to know about.
Here’s a rundown of common mortgage fees.
Credit Report Fees
Since lenders will want to have a copy of your credit report to see if they should lend you money, this fee will be paid to credit reporting agencies. It’s usually between $15 and $30.
You’ll have to pay your own legal fees, but also the lender’s legal fees. The amount will vary according to the amount of the loan and the property.
Lenders sometimes charge borrowers a fee for originating the loan and they’re usually a percentage of the entire loan.
Many credit unions and banks will charge borrowers an origination fee that’s between 0.25 and 0.5 percent of the loan amount.
Lenders will choose experienced appraisal teams to complete commercial property appraisals due to the level of expertise that’s required. This can cost between $2,000 and $3,000.
Can you get a government grant?
Most grants are unfortunately not given to business startups as this kind of money isn’t available for businesses to pay off their debt or to cover their operational expenses.
What is an unsecured business loan?
An unsecured business loan offers funding without you having to provide personal or business assets, but you need to have a good credit score, financial history, and cash flow.
If you want to get a commercial mortgage, there are some important things you need to know so that you get approval for it – or, if you’re rejected, you have alternative ways to fund your business.
In this article, we’ve looked at the issue of securing a mortgage for small business owners and what to know about commercial mortgages, such as how to apply for them and their pros and cons so that you can decide if you should take out a mortgage or consider a different financial option.